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Payment run control as a contribution to effective WCM

Payment run control as a contribution to effective wcm

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Comprehensive working capital management (WCM) addresses the entire value chain of a company. One key element of working capital management, in addition to the forecast-to-fulfill and order-to-cash processes, is the purchase-to-pay process, i.e. the process chain from purchasing to payment and supplier invoice entry.

Optimization of this process focuses not only on negotiating the longest payment terms possible with suppliers, but also on exploiting these in the best way possible. Treasury frequently fulfills a monitoring and control function during that process stage.

Complete and efficient automation of the purchase-to-pay process is often only possible to a limited extent, resulting in complex and less than ideal working capital management. This could be due to decentralized accounts payable accounting, with partially manual processes for bank and invoice-related entries, or a transaction structure leading to regular manual payments in the short term.

In these and similar cases, the only option left to treasury quite often is not handing over control and to monitor payment processes throughout the group. From the point of view of treasury the objective is to keep liquid funds inhouse for as long as possible, i.e. to pay invoices as late as possible and to avoid early payment or exclude it altogether if possible.

The question then arises as to viable options for monitoring processes from invoice receipt to actual payment, and thus create group-wide transparency with a sufficient level of detail.

In order to facilitate efficient and effective control, data for outgoing payments must provide additional information. Information gained from supplemented data is visualized by means of suitable reporting. If presented properly, liquidity potentials and deficiencies can be identified early and so contribute to decisions about appropriate measures. These measures can also be reviewed retrospectively for their effectiveness by those responsible for reporting. This record-to-report process is aligned with the individual steps for the entire value-creation process.

The following five steps are required:

All data relevant for working capital management must be available in a transactional system. Ideally, the required data sets should be generated automatically by programs or modules and be cross-referenced, for example by means of joint receipt or transaction keys.

From the large number of data, those need to be identified and also transformed if necessary that are required for obtaining information and actual control. Relevant information includes invoice date, entry date, payment terms and value date, differentiated by transaction currency, local currency and group currency, if applicable. It is usually not necessary to extract all available data. Instead, it would be advisable to analyze requirements in detail for data which are and could become necessary for working capital management.

The logical data model forms the basis ('single source of truth' approach) for all queries relevant to reporting. Relevant data from various sources are logically linked and thus supplement payment flows with additional information relevant to control. Specifications must be aligned with the business model to allow for appropriate data modelling. For example, account assignment objects and data sets of trading companies must be linked differently compared to those of service companies to allow for the correct presentation of working capital ratios.

The database provided by the logical data model in step 3 is still too extensive however for reporting purposes. Further condensation of data is necessary, for example through hierarchies or structures. This step also includes the definition, design and implementation of a calculation logic for KPIs. Typically, conventional WCM KPIs such as days payable outstanding (DPO) are used, but also sales-weighted ratios and average days past due per supplier or country.

In the last step, the information gained and supplemented must be visualized (presented) in an appealing format. In this respect, it is of course also important to comply with best practice standards for formatting/visualization (cf. Hichert).

As a result, report recipients are provided with an analysis instrument allowing them to analyze KPIs – such as exploiting terms of payment, days past due, number and volume of early payments, etc. – for a variety of dimensions and also broken down to individual invoices. For example, the use of funds, i.e. the underlying transaction, transaction currency, type of payment, or originator, can be analyzed in accordance with various KPIs.

In addition to the optimization of working capital as such, there also are other benefits. For example, measures taken can be assessed for their effectiveness at regular intervals as well as strategic measures be quantified, such as the effects of using early payment discounts and analysis of the effects of changes in payment terms on working capital for each individual supplier. From such controllable payment behavior, it is ultimately possible to automatically determine (via WACC) changes in internal financing potential as a result of WCM measures as a control indicator.

In addition, due to high value date accuracy, such information can be useful during communication and negotiation with suppliers, for example for standard reporting of adherence to agreed payments terms to the most important suppliers, which in turn serves as a good negotiating position for future payment terms.

Conclusion: Such reporting can increase the transparency of payment run control and contribute to more effective working capital management, especially when the level of automation of the purchase-to-pay process is in need of optimization.